FSA has published a discussion paper setting out possibilities for fundamental changes to the prudential treatment of trading activities. The Basel Committee has suggested various measures to reduce the risks banks' trading activities pose, which FSA says would generally increase capital requirements to three times current levels. However, it understands the need to examine prudential treatment of trading activities alongside other changes that have already taken place, or will soon do so. FSA makes three key recommendations in this paper. It does not address whether trading activities should be separate from banking activities, as this is within the remit of the Independent Commission on Banking. FSA recommends:

  • increased focus on valuing traded positions as an input into capital resources and a specific assessment of valuation uncertainty;
  • making changes to the structure of the capital framework for greater coherence and to reduce opportunities for structural arbitrage within the banking sector and the financial system generally; and
  • new rules to improve firms' risk management and modelling standards. FSA is keen to ensure firms consider system-wide risks, not just narrow, specific ones.

FSA has not decided how to address these structural deficiencies. It says it may not be necessary to increase capital, just to reallocate capital requirements to the riskier areas of trading activities. Anyway, it says this is a discussion paper only, and it will consult fully on any firm proposals and carry out full impact assessments. FSA makes 15 specific recommendations and asks over 30 questions in the paper. It wants comments by 26 November and will issue a feedback statement in the first half of 2011.